Why the "Cheap iPhone" Story Doesn't Make Sense

Here's an Apple rumor that bears comment: Bloomberg reports that Apple is working on a version of the iPhone that it would consider selling for $200 without a contract.


I don't think it's true. Here's why:

Today, Apple gets more than $600 for every iPhone. That's the price carriers pay. Carriers then sell iPhones to their 2-year contract subscribers for only $200 or so, knowing they'll get their money back in the form of monthly fees. Why can Apple charge $600 when competitors like Research in Motion and Motorola get $300 or less per phone? Because carriers have determined that iPhone customers are big spenders who generate big monthly bills, stay loyal, and buy other things. They're high-rollers.

The iPhone's high average selling prices are the main reason why Apple's stock price has taken to the stratosphere. And Apple has worked hard to maintain those ASPs; Chief Operations Officer Tim Cook has said more than once on earnings calls that even when iPhone exclusivity ends within a geographic area, Apple has been able to maintain those ASPs and the high margins that come along with them. That ability to maintain profitability while growing share is unprecedented, and it a large part of the reason why Apple is so respected among its peers.

Why are those high iPhone prices so important? Not just for the return they bring to shareholders. Because prices are relatively high, Apple can afford to use higher-end materials in its phones. Notice the hardened glass on the front and back of the iPhone 4, and the high-resolution Retina Display? Apple can do that because it doesn't have to nickel-and-dime on component costs up front.

All of these are reasons to doubt Apple would ever want to sell a phone for an average price of $200. Even if Apple were able to achieve the same profit margin at a third of the price – which would be impossible without using lower-grade materials – it would still have to sell three times as many phones to make the same profit. A move like that would make zero sense when, as Cook reiterated on Apple's latest earnings call, Apple is selling iPhone 4s (at more than $600 a pop) as quickly as it can make them.

The reason why the rumor is tempting to believe: many industry watchers wrongly assume Apple must be freaked out by Android's growing market share. They think Apple must want to keep Google's platform from selling more units than iOS. But that's just not how Apple thinks in smartphones or PCs. If Apple simply wanted to gain PC market share faster, it could use cheaper components, or sacrifice profits to drop the price. But Steve Jobs doesn't work that way.

Now, Peter Burrows, who has the first byline on the Bloomberg story, is a great reporter. So I don't doubt there's something to his info. But if so, here's what it probably is: Apple could be making a phone that carriers could subsidize and sell for as little as $49 or $99 with a contract – something the company has been known to do with older-generation phones. Apple also could be making a version of the iPhone, based on generation-old technology, to sell for a lower price in emerging markets like India where its mainstream phone has gotten little traction.

If Apple were to do that, execs would figure out a way to lock the phone to that emerging market's carrier so as not to destroy its profit margins elsewhere.

After all, Jobs didn't spend all this time building up a $59 billion hoard of cash and long-term securities just so he could start giving iPhones away.

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